China's current-account surplus shrinks

RichardSilk

BEIJING--China's trade with the rest of the world was roughly balanced in the first quarter, data showed Friday, taking some of the wind out of arguments that the Chinese currency is fundamentally undervalued.

China has long posted large trade surpluses, sparking criticism from the U.S., where lawmakers from both political parties have argued the country manipulates its currency to give an unfair advantage to its exporters.

In the first quarter the surplus on the current account--which covers trade as well as one-time fund transfers--was $7.2 billion, the State Administration of Foreign Exchange said, the smallest quarterly surplus in three years and well below the $44 billion recorded in the final quarter of last year.

The current-account surplus in the first three months of this year equates to just 0.3% of China's gross domestic product and reflects unusually weak exports. The $7.2 billion balance "seems like a lot of money in dollar terms, but as a share of GDP it's small," said Zhiwei Zhang, a Hong Kong-based economist at investment bank Nomura.

The yuan has fallen by about 3% against the dollar so far this year, threatening a renewal of the currency debate. The U.S. Treasury said this month that it would "raise serious concerns" if Beijing moves away from plans to allow market forces to have a greater impact on the yuan's exchange rate.

But with the trade surplus on a downward trend, some economists say the yuan is now closer to equilibrium. Economists, who try to determine the fair value of a currency by looking at the country's trade balance and flows of investment capital, are now divided on the long-term prospects for the yuan.

As China's trade surplus shrinks, "the fundamental reason for the currency to appreciate will go away," said Mr. Zhang. The current account could slip into deficit next year for the first time since 1993, he believes.

Other economists disagree. The International Monetary Fund expects China's current-account surplus, which contracted to 2.1% of gross domestic product last year, to grow to 2.2% of GDP next year and 3% by 2019 as export demand from industrialized countries rebounds. Many private-sector economists take the IMF's view.

"I think the fundamentals still point to a stronger currency," said Mark Williams of London-based research firm Capital Economics. The first quarter is always weak for exports, partly due to the Lunar New Year holiday, Mr. Williams said, while the prospects for continued capital inflows are strong.

Large deficits in Western countries--partially enabled by China's massive trade surplus--were among the underlying imbalances that led to the global financial crisis. China and other surplus countries like Germany effectively lent consumers in countries with large trade deficits--including the U.S., the U.K. and Spain--money with which to buy their goods.

Such imbalances allow deficit nations to live beyond their means, but they also undermine exporters in those countries. "Effectively, they are crowding out some of the demand that would have gone for U.S. goods and services," said Arvind Subramanian, a fellow at the Peterson Institute in Washington, D.C. But the stark imbalances of the mid-2000s are well on the way to being resolved, Mr. Subramanian said.

At the 2010 G-20 summit in South Korea, then-Treasury Secretary Tim Geithner suggested countries should try to keep current-account surpluses from topping 4% of GDP. Opposition from China and Germany meant the goal was never formally adopted, but China passed that benchmark soon afterward anyway.

The country's current-account surplus has fallen from a peak of 10.1% of GDP in 2007 to 2.1% last year. The U.S. current-account deficit has also narrowed from 4.9% of GDP in 2007 to 2.3% of GDP last year.

Japan, historically another big surplus nation, saw its surplus winnowed down over the same period as manufacturing competitiveness declined and domestic demand picked up. Among the major economies, only Germany's surplus has remained high.

China also posted a first-quarter surplus of $118.3 billion on the capital and financial account, which measures flows of investment funds in and out of the country, down from $127.0 billion in the last quarter of 2013. Both current-account and capital-account data are preliminary and subject to revision.

Those capital inflows were driven mainly by the difference in interest rates inside and outside the country, said Li-Gang Liu, an economist at ANZ Bank. The world is still awash with cheap money from the U.S. and Japanese loose- monetary policies, with benchmark interest rates in both countries close to zero. Investors who are able to borrow offshore and invest in China stand to make a profit exploiting the difference.

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